Sunday, 31 August 2008

The latest issue of Prospect magazine features a freely available, hard-hitting debate on whether or not behavioural economics is all its cracked up to be.

Standard economics sees people as selfish, rational decision-makers. Traditional economic models predict that, provided people have the necessary information to hand, they will tend to choose those options that are in their own best interest. By contrast, behavioural economics is less psychologically naive, recognising that people are often far from rational, and are influenced by such human foibles as having a sense of fairness.

Behavioural economics is all the rage these days, not least because of the interest politicians like Barack Obama and David Cameron have started to show in the way its principles can be exploited to change people's behaviour - as advocated and explained in books like Nudge.

In this new Prospect debate, Pete Lunn (author of Basic Instincts: Human Nature and the New Economics) argues that behavioural economics will "deliver a revolutionary new way of understanding the world." In response Tim Harford (author of The Logic of Life: Uncovering the New Economics of Everything) plays down the impact of behavioural economics, arguing that the field's lab studies rarely translate well into the messiness of the real world:

"No doubt you are familiar with the laboratory work on how workers respond to wage offers. In one celebrated experiment, behavioural economists divided their subjects into 'employers' and 'workers.' They discovered that when the 'employers' paid unexpectedly generous 'wages,' the 'workers' reciprocated by working unexpectedly hard.

It’s a classic of the field. But the real world remains intractable. The economists John List and Uri Gneezy recently repeated the lab study in the field, advertising real jobs, hiring real workers and paying real hourly rates. They used a controlled trial to see what happened when workers were paid unexpectedly generous rates. And they discovered that the lab results were evanescent: after a couple of hours the gratitude evaporated and the workers slacked off, reverting to the rational self-interested behaviour described in those pesky textbooks. I would not advise personnel departments to rewrite salary scales on the basis of an effect that does not survive past lunch on day one."

Behavioural economics and its advocates are so much the rage these days that I for one found Harford's scepticism refreshing. That said, he did seem overly aggressive at times: "You are too vague: arguing with you feels like trying to arm-wrestle a hologram" he tells Lunn, adding later: "I realise it is tedious to be so specific, but your handwaving is getting us nowhere." Still, if you like a lively debate, as I do, Harford's approach does juice things up nicely.

Link to Prospect debate: "Behavioural economics: Is it such a big deal?" (Open Access).